Because They're Worth It

By Jennie James/Paris

Until she discovered L'Oreal's ethnic-beauty institute on Chicago's South Side, Regina Hatcher had dry, strawlike hair--the price she paid for chemically straightening it. But one Sunday, the African-American security officer, 35, received a tip from a friend whose daughter had turned to the center, formally called the L'Oreal Institute for Ethnic Hair and Skin Research, for help following a disastrous perm. "They got her hair back more healthy and shiny," said Hatcher, who promptly booked an appointment for herself--hoping that L'Oreal's stylists and researchers, armed with a vast array of shampoos, conditioners and gels, could also sort out her tresses. The result? "It was extra soft and bouncy," Hatcher boasts. "I got a lot of compliments." People even hit her with the ultimate admiring cliche: "What did you do to your hair?"

The answer could be worth a pretty penny for L'Oreal. Over the past decade, the world's largest cosmetics concern has transformed itself from a French company focused on white women into a global titan whose skin, hair and cosmetics products are tailored to consumers from Dallas to Delhi. L'Oreal has a strategic gift for taking cosmetics brands, giving them an innovation injection and a marketing makeover, and then rolling them out across the world: antiaging potions for American boomers or lipsticks for young Chinese. L'Oreal is even working on beauty from the inside out: how about a skin-support system that you swallow?

In the U.S., L'Oreal is turning its attention to the rapidly expanding ethnic-beauty market, projected to be worth up to $14.7 billion annually by 2008. Ethnic-beauty care in the U.S. has been dominated by black-centered companies that are close to their customers. Over the past five years, L'Oreal bought two of them, SoftSheen and Carson, and integrated them into a single entity that the company sees as a worldbeater. Researchers at the Chicago institute will help develop products that SoftSheen/Carson can take well beyond the U.S. "You can't pretend to be No. 1 in the world," says Alain Evrard, L'Oreal's managing director for Africa, "and forget about 1 billion consumers of African origin."

In the global $60 billion beauty industry, being first feels familiar to L'Oreal. Analysts expect that 2003 sales, to be released this week, will hit $18.2 billion, allowing the company to achieve its 19th consecutive year of double-digit earnings growth. According to Morgan Stanley, L'Oreal is the only cosmetics company over the past five years to have maintained or grown its market share in categories like cosmetics and hair care, both globally and in the U.S. Consider Maybelline, the U.S. mass-market cosmetics house that L'Oreal acquired in 1996. The French giant revamped the brand's drab packaging, relabeled it Maybelline New York to give it an urban edge and took it on the road. From 1996 to 2002, sales of Maybelline outside the U.S. grew 93%. Propelled by products like the glistening Water Shine Diamonds lipstick, which cashes in on the trendy wet look for lips, Maybelline is now the preferred cosmetics brand for 44% of Chinese women.

Although L'Oreal takes a global approach, the company is keyed to the chronological and cultural differences of its consumers. The result of this market segmentation: a long-term global-beauty jigsaw, coming together piece by piece. "We're going to have to imagine things that appeal to both ends of the age spectrum and to very different ethnic consumers," says Lindsay Owen-Jones, 57, the Brit who has been at L'Oreal's helm for the past 19 years. "There used to be one ideal consumer. Tomorrow there are going to be many different ideal consumers ... and we're going to have to be good at guessing what they want."

Africa is a case in point. SoftSheen/Carson already has a strong presence in South Africa, where in 2002 it accounted for about 41% of that country's estimated $90 million black hair-care market. But L'Oreal wants to have as big an impact in other African markets. Oddly enough, this is where the U.S. comes in. Africans, says Evrard, "believe that if [a product] is good for the highly demanding U.S. black consumer, it might also be better for them."

Although many consumers know it for skin-care products like Plenitude, L'Oreal had its origins in hair care. In 1907 French chemist Eugene Schueller developed a line of synthetic hair dyes, known as L'Aureale, or Halo, and started selling them to Parisian hair stylists. Almost a century later, Schueller's once tiny company presides over a host of high-profile beauty names such as Lancome and Garnier. The company's top 14 global brands account for more than 90% of its $14.3 billion in consumer sales.

Despite the number of headline brands, there is very little cannibalization--a feat that L'Oreal pulls off because of its extraordinary commitment to positioning and marketing. Merrill Lynch analyst Sandhya Raju estimates that L'Oreal spends about 30% of its sales revenues on advertising and promotion, against an average 25% spent by its principal competitors. Take L'Oreal's move into China, where the cosmetics market grew 14% in 2002 and where L'Oreal's sales grew 61% that year. In L'Oreal's view, it is selling products to an archetypal Miss Yu, who is 18, still lives at home and would like to buy rouge or lipstick; to an imaginary Mrs. Li, who is in her late 20s and has a good job and some disposable income; and to the thirtysomething prototype Mrs. Wong, married, with one child, and more inclined to use skin care than makeup. Even the type of transport is factored in--L'Oreal reckons that if Miss Yu rides in a car, she's probably a Lancome consumer, but if she rides a bicycle, she's made for Maybelline.

Acquisitions will permit L'Oreal to continue diversifying its revenue base and product range. In December L'Oreal bought Mininurse, a Chinese mass skin-care brand with a 5% market share. It bought a majority stake last year of Shu Uemura, a Japanese concern in which it owned a 35% stake. In the past decade, Western Europe's share of L'Oreal's overall sales has fallen about 12%, while the share of regions like Asia has risen more than 20%. L'Oreal also has its eye on India and Mexico. "It's a superb sales model," says Andy Smith, an analyst at Citigroup Smith Barney, of L'Oreal. "They've managed to identify all the hot spots of growth in the industry and dominate those areas."

As ever with L'Oreal, innovation is as likely to dominate the company's thinking as where to find the next group of willing consumers. In 2002 L'Oreal spent $594 million on research--about 3% of turnover and double that of its nearest rivals. In the stark laboratory not far from the Paris headquarters, for example, scientists are coming at the dermis from both sides--developing skin products that are applied externally as well as those that are ingested. High above the earth, a European space-agency satellite is transmitting data to L'Oreal about where global-pollution levels are strongest--so L'Oreal can adapt its moisturizers. There's even a team of people trying to figure out how to biologically trigger total color recall in human hair, potentially making hair dye a thing of the distant past.

Scientists are also working on the line extensions for Inneov, L'Oreal's line of edible beauty supplements, developed with Swiss food giant Nestle and launched last year. The promise is simple: take one of the little dark pink pills every day, and the firmness of your skin will improve. By the end of the year, consumers may be able to buy Inneov pills to thicken hair and tackle cellulite. On the horizon: a pill to enhance sun protection. "We started with a product that demonstrably shows you have firmer skin," Owen-Jones says. "This is not snake oil."

L'Oreal is convinced that boomers will fight aging to the death and so demand more and more scientific solutions to that annoying biological problem. Company research shows that L'Oreal's consumer used to be between ages 20 and 50. Now she's between 15 and 70. A decade from now, L'Oreal predicts the range will extend from 12 to 90 years old. With the beauty-supplement market worth about $800 million, it could be a while before Inneov pays its way. "Maybe not for 10 years," says Merrill Lynch's Raju. "But they want first-mover advantage."

Yet for all this apparent foresight, L'Oreal's recent stock performance has at times been less than lustrous. Its P/E ratio has more than halved over the past three years, suggesting the market feels that its growth prospects have slowed. Analysts cite the company's big ad and promotions budget and the fact that its manufacturing is less efficient than that of its competitors. Says Citigroup's Smith: "L'Oreal has the cost structure of a prestige cosmetics house, yet only 25% of its products are in the prestige category. The rest is mass market." Such criticisms draw a scathing response from Owen-Jones. "Analysts work like politicians," he sniffs. "They spend their time justifying that they've always had a point of view." He refuses to restructure. There are "so many other places you can invest if what you want is bloodletting," he says.

Owen-Jones has the good fortune to run a company that is not entirely beholden to analysts. Because of a complex arrangement, just over half of L'Oreal's stock is controlled through a holding company that includes Nestle and Liliane Bettencourt, Eugene Schueller's only child and--thanks to her L'Oreal stake--one of the wealthiest people in Europe.

Owen-Jones accepts that L'Oreal might have the odd off year, but in the long term, he sees no reason why all the markets shouldn't keep on growing, even the most developed ones. Take Sensation Totale, a skin-soothing lotion designed to go under the moisturizer that is Lancome's hottest product in the U.S. Does a premoisturizer moisturizer seem like a fanciful idea? Perhaps not in the American market, where women put an average of seven products on their face each morning. And certainly not in the Korean market, where L'Oreal also has a presence. How many products does the average Korean woman apply before she even gets out the front door? Twenty-two.

--With reporting by Elizabeth Coady/Chicago

With reporting by Elizabeth Coady/Chicago